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Thursday, September 6

6th Sep - ECB Watch

ECB's plan - all material collected to one place. I will update this post continuously and latest
additions are at the bottom of the post, as usual. Last update: 19-Sep 23:00 GMT. See 30th Jul - Special: ECB WATCH(last update 7-Aug) for even
more ”believe me”-material.

a precise idea about what commentators had
previously referred as “a grand master plan” or “the two-pronged approach”
where ECB intervention on the secondary market would be conditioned on
countries making first a request to the EFSF and accepting the strict
conditions and supervision attached to it.

A lot of things have to go right for the ECB’s
bond-buying plan to succeed

10-Aug

Venetian cunning of Draghi-Monti masterplan may
save euro for now –
The
Telegraph

Ambrose Evans-Pritchard: So we
enter the treacherous market month of August with Europe in limbo. The actors wait upon each
other. World finance held hostage to a fiendishly complicated game of
diplomatic chess.

Mr Draghi could simply have repeated
the old line that the operation of the Target 2 system is enough to ensure that
the euro can never fall apart. By admitting the reality that the system is no
longer 100 per cent credible in the eyes of the market, the ECB president has
invited investors to ask whether his proposed interventions are powerful enough
to deal with problem he has raised.

Mario Draghi Cannot Save the Euro – View
/ BBA
broader question is what, if anything, Draghi might achieve with a looser
monetary policy. The euro area has many problems, including a lack of
competitiveness in the periphery, chronically poor growth in countries such as
Portugal and Italy, deeply damaged public finances in Greece and Spain, and a
labor force that’s not mobile enough to go where the jobs are. Which of these
could be resolved by reducing interest rates across the board?

The above measures if implemented
(likely), as proposed by Draghi, are bullish. Yes, there are risks, but…Indeed,
I could argue that Draghi’s plan is even more important that his previous LTRO
programme on behalf of European banks.

In sum, the ECB has not quite shaken off its
longstanding schizophrenia: it is bold when providing crisis loans to banks,
less so when supporting sovereigns. This double standard makes no sense. Europe’s
banks own sovereign bonds and its sovereigns are on the hook to save the banks,
so the two cannot logically be separated.

Over the past week, ECB president Mario Draghi
has come as close as possible to announcing a barrage of virtually-printed
money, without actually announcing it. While wanting to soothe market nerves,
so allowing Europe's ruling classes to remain relaxed on their summer sunbeds, Draghi is
also petrified of pushing Berlin too far and provoking an explicit Nein.

A deteriorating economy and dissipating
inflation pressures may well make the ECB feel more comfortable about acting on
the premise that its loose monetary policy is not feeding through to all
corners of the euro zone, namely those countries whose borrowing costs remain
sky high .. But not before September.

The ECB Can Save the Euro – But It Has To
Change Its Business Model – INET

The ECB is the only institution that can
prevent panic in sovereign bond markets from pushing countries into a bad
equilibrium, because as a money-creating institution it has an infinite
capacity to buy government bonds. Its infinite resources are key to being able
to stabilize bond rates. This is the only way to gain credibility in the
market.

to embark on unconditional and selective QE in
the current situation is within the price stability mandate of the ECB. To
impose conditionality in the way it is doing is not within its mandate.
Unfortunately, as Carl Whelan points out, this is not the first time the ECB
has exceeded its mandate. As he also says, if the Fed or Bank of England made
QE conditional on their governments undertaking certain ‘structural reforms’ or
fiscal actions, there would be outrage. So why do so many people write as if it
acceptable for the ECB to do this?

While markets have been cheered by recent ECB
announcements on sovereign debt, some still question the Bank’s ability to save
the euro. This column argues that the ECB is a lot stronger than many think.
Linking ECB sovereign bond purchases to policy conditionality will ensure that
reform efforts are sustained. The free lunch option has been ruled out – and
that is a good thing.

the central bank’s traditional function as
lender of last resort to the banking system is meant to support banks that are
illiquid, not those that are insolvent. Presumably, the ECB would likewise be a
lender of last resort to governments that are illiquid—for example, because
adverse market conditions prevent them from refinancing upcoming debt
maturities, which is a routine procedure under more normal market conditions.
The intent is presumably not for the ECB to act as a lender of last resort to
governments that are insolvent

Nouriel
Roubini: Germany and the ECB are now relying on the hope that large-scale liquidity will
buy time to allow the adjustments needed to restore growth and debt
sustainability in the eurozone periphery. But, if a eurozone breakup can only
be postponed, delaying the inevitable would merely make the endgame worse –
much worse.

The ECB to potentially target periphery yields
via unlimited buying
– Sober
LookKnowing that the central bank will
support their nation's bonds in an unlimited fashion, periphery politicians
will no longer be under pressure to implement austerity measures in a timely
manner. The fiscal consolidation work will be put on a southern European timeline
and the can will be kicked further down the road.

Germany’s director at the European Central Bank
has thrown his weight behind mass purchases of Spanish and Italian debt to
prevent the disintegration of the euro, marking a crucial turning point in the
eurozone debt crisis.

Asmussen backs Draghi (updated) – alphaville
/ FTAs so too is this very public backing of
Draghi’s putative bond buying plan: Spain managed to sell
€4.5bn of 12 and 18 month paper on Tuesday — the top of the indicated range and
at substantially lower yields.

This one’s from Citi’s Global Economic Outlook
for August, which dubs the expected ECB operation the “Conditional Government
Bond Purchase Programme” (snappy!). Citi forecasts thatthe ‘CGBPP’ will concentrate on buying T-bills.
These are usually protected from losses during a sovereign debt restructuring

What it really is, is merely a last step
desperation attempt by Mario to keep on talking down bond yields, since a month
into his "believe me" speech, the ECB has yet to do anything, let
alone secret or not so secret yield caps, let alone Spain demanding a bailout,
let alone the ECB even reaching a consensus with Germany and Bundesbank both
opposing any incremental money printing.

December-2011 Consolidated Banking Data (CBD), a data set that provides various
indicators about the EU banking system on a consolidated basis. It includes
indicators on all 27 EU Member States and the EU as a whole. The CBD are separately reported for three
sizes of domestic banks or banking groups

How many times have we seen this scenario play
out? The Eurozone leadership declares that it has the ultimate solution that
ends up failing at the implementation stage. This certainly feels like one of
those situations. Here is the "revised" chain of Eurozone events

Draghi may wait until Germany’s Constitutional
Court rules on the legality of Europe’s permanent bailout fund before unveiling
full details of his plan to buy government bonds, two central bank officials
said. D’oh! With the court set to rule on Sept. 12, investors looking for
Draghi to announce a definitive purchase program at his Sept. 6 press
conference might be disappointed,

The “excuse” of the ruling on September 12 only
has any substance to the extent that (b) is true – that work on the design of
the plan is incomplete. The idea that work “is not complete” may also be a
euphemism for the fact agreement on the contours of the policy is proving
elusive.

Bundesbank President Jens Weidmann has strongly
criticized of the plans of the European Central Bank to launch a new program to
purchase government bonds. “Such a policy is for me too reminiscent of public
funding via printing”

"I think it is good that Jens Weidmann
warns the politicians again and again," Merkel said. "I support Jens
Weidmann, and believe it is a good thing that he, as the head of the German
Bundesbank, has much influence in the ECB."

The eurozone crisis may look less acute once
the bond purchases start but we have been through phases in the past where the
crisis appeared to be receding, only to come back a few weeks later. Unless the
programme is accompanied by a swift move towards banking and fiscal union, it
will not make a difference. And that means it probably won’t.

Angela Merkel tried to calm a growing storm
over euro zone crisis strategy on Sunday after the Bundesbank likened ECB
bond-buying plans to a dangerous drug and a conservative ally of the German
leader said Greece should leave the currency bloc by next year.

While Spanish and Italian bonds remain firm,
though without any more upside momentum, we note that the price of insurance is
beginning to rise.The 5-year
credit-default swap in Spain is just below 500 bp
and is at its highest level in two weeks.Italy's 5-year CDS is near 455 bp, which is approaching a 3-week high.

The ECB plans to resume buying the bonds of
crisis-hit countries on a large scale. Jens Weidmann, head of the German
central bank, is firmly opposed to the idea, arguing that it will lead to
inflation and lessen pressure on governments to carry out reforms. But he is
becoming increasingly isolated within the ECB and in the political world.

JP Morgan: It really can't do too much with Greece at this point, but
the central bank could focus on Portugal first. Portugal is supposedly on track with its fiscal plan (at least they have
satisfied the Troika requirements). Yet the low rate policy transmission is
broken, as short-term rates (as well as effective household borrowing rates)
remain stubbornly high.

…with or without an interest rate target, the
success and the sustainability of any future ECB interventions will ultimately
depend on the peripheral governments’ ability to meet the conditionality
required. The long-term future of the euro, meanwhile, will depend on the
willingness of all euro area governments to embrace much closer fiscal and
economic integration.

Weidmann: The Fed is not bailing out a cash-strapped
country. It's also not distributing risks among the taxpayers of individual
countries. It's purchasing bonds issued by a central government with an
excellent credit rating. It doesn't touch Californian bonds or bonds from other
US states. That's completely different from what we have in Europe.

Policy of targeting "monetary
transmission" by the ECB looks good in theory, but questions about
independence remain
– Sober
Look

Ultimately, Draghi's unwillingness to put a
price tag on any of his suggestions or explain how they can be delivered in a
democratic manner makes them hard to believe. The German public deserve better
'solutions' than this.

BuBa President on ECB Bond
Purchases 'Too Close to State Financing Via the Money Press' – Spiegel

Jens Weidmann, the 44-year-old head of Germany's central bank, has made a name for himself by championing price
stability and opposing bond purchases by the European Central Bank. In a
SPIEGEL interview, he criticizes the ECB's latest plans and insists he only
wants to secure the euro's long-term future.

As a flexible and immediately available source
of sovereign funding, central bank financing is a powerful tool to deal with
crisis situations. But it lacks political legitimacy and can blunt the
incentives for more fundamental consolidation and reform to take place, helping
to transform a crisis into a chronic problem.

The game theory literature tells us that one of
the ways to solve the prisoner’s dilemma is to have a credible threat in place,
especially as the ECB and politicians will be playing this game an unknown
number of times. But the problem for the ECB is that the threat of not
intervening if the conditionality isn’t met is not credible.

Our central scenario is the Compromise Scenario
where the ECB cuts the Repo Rate to 50bp, keeps the Deposit Rate at 0% and
revises the collateral framework. We expect little new material information on
the front end SMP bond buying program. To us, this will underwhelm market expectations
and will lead to a modest rally in core markets.

Thus, if central bankers believe, or the public
believes that central bankers believe, that a negative equity position of the
central bank leads to a change in monetary policy, real consequences
materialize and central bank equity matters. In that sense, Sinn has a point in
claiming that Target2 assets and liabilities will lead to losses in case of a
break-up. But this is more complex than simply taking the Target 2 imbalances
and equating those to a loss.

The outcomes prayed for are a demand for money
and a resistance to those demands.The
pleas of Spain are about to be answered; first from the ECB and then from Germany’s acceptance or rejection of the Draghi plan. The “Game of Muddle” will
be ended and real answers to real insistences will be given.

Traders will buy bonds just outside the three
year range and wait for them to roll down the curve. They are going to capture
the relatively high income as well as the capital appreciation from the rapidly
declining yield as the maturity shortens with time. And once the bonds are
within the range, there is a "free put option" from the ECB who will
not permit yields from rising above a certain levels.

The ECB’s latest program of bond purchases will
be big enough to ensure that Draghi does not lose face. But it will not be big
enough to dispel convertibility risk and hence demonstrate the ECB’s
credibility as a lender of last resort. And it is the ECB’s credibility
problem, not that of member states, that is the principal reason for
unsustainably high borrowing costs in Italy, Spain, and other distressed
eurozone countries.

The only magic wand that anyone could wave over
the current mess would be a sudden pledge from the ECB to buy as much sovereign
debt as was needed to calm markets. This wouldn't cure anything, but it would "restore
confidence", at least for a while. If it was allied to a sudden urge by
all members of the eurozone to meld together into a fiscal union, then the
magic trick would be complete. However this latter point is right up there with
"pigs might fly".

Mounting his strongest case yet for ECB bond
purchases, Draghi told lawmakers in a closed-door session at the European
Parliament in Brussels yesterday that the bank has lost control of borrowing
costs in the 17-nation monetary union.

GS: We therefore foresee a “compromise” in the form
of a statement that the ECB will intervene, unlimited if needed, in markets in
order to keep yields in a range that is deemed as consistent with fundamentals

Nomura: Spain is in a category of
its own. While there are some outflows in countries like Portugal and Italy, the size of these outflows is not nearly as large as in Spain. On a 3-month rolling
basis, Italy’s outflows represent about 15% of GDP currently, while they represent
about 50% of GDP for Spain.

Financial fragmentation
across the Eurozone can not be ended by extending ECB credit to periphery
governments – Sober
Look

Why The Market Expects The ECB
To Soak Up All Remaining 2012 Issuance – ZH

It appears the S&P 500 is
pricing in an increase of around USD300bn in the short-term. This USD 300bn
amounts to EUR 240bn - a very special and rather too coincidental number. Based
on expectations of supply, the EMU16 nations have EUR 245bn issuance remaining
for the rest of 2012.

At today’s meeting the Governing Council of the
ECB decided that the interest rate on the main refinancing operations and the
interest rates on the marginal lending facility and the deposit facility will
remain unchanged at 0.75%, 1.50% and 0.00% respectively.

The ECB agreed a new bond-buying program on
Thursday to lower struggling euro zone countries' borrowing costs which would
serve as a "fully effective backstop", ECB President Mario Draghi said
on Thursday.

First
reaction: The ECB’s OMT monetisation is for banks as much as sovereigns
– Credit
Writedowns

That’s
very euro bank bullish. Not for Spanish and Italian banks, mind you, because
their domestic economies are in a world of hurt. But German, French and Dutch
banks just got a Draghi put on their sovereign bond assets – and that’s
bullish.

ECB creates a new acronym: OMTs (Outright
Monetary Transactions) – ASAbesides the name, the actual plan appears
to be pretty much exactly the same one as leaked.

odd differentiation of the seniority of SMP holdings and those that will be
held by the new ECB bond purchase facility, the OMT… the main difference
between the SMP and OMT are that the former holds a fair whack of Portuguese and Irish
paper, while the latter is clearly designed primarily for Spain and Italy… ECB knows something
about a potential upcoming PSI in Portugal?

What I liked Most: Actionable * What I liked
Least: Multiple Party Involvement * Pari Passu: Don’t Believe It *
Conditionality: More Bark than Bite * Maturity: Typical Old School Banker * An
A for Effort, a C for Execution

Market largely got what it expected with the
Draghi press conference today – but market limbo may continue after today’s
response to the ECB news as biggest event risks don’t arrive until next week.

After Draghi Speaks, Euro Bears Win – MarketBeat
/ WSJWith the euro now trading below where it
was before it jumped on the announcement that the ECB kept its rates steady,
the market is weighing what it didn't know versus what it did.

If only to avoid making Germany and Mr Weidmann
even more unhappy, the ECB will not aim to give peripheral countries the same
borrowing rates as the northerners. As a result, its actions as lender of last
resort will not miraculously restore the potency of its monetary policy.

by doing everything in its power to keep yields
artificially low and markets artificially high, the ECB is removing any urgency
by Spain, Italy, Greece, actually scratch Greece, and all other countries with
unsustainable primary and other deficits, to fix their problems.

Is the ECB bond buying a
turning point in the eurozone crisis? – Open Europe

likely to prompt a positive market reaction.
However, on the downside, it transfers far more risks from struggling banks and
governments onto the ECB’s balance sheet, without providing any fundamental solution
to the crisis. It will also be virtually impossible for the ECB to impose
effective conditionality on debtor countries, meaning that the ECB can only
hope that a series of unpredictable political decisions in member states will
go in its favour. If not, this action could actually prove to be a disincentive
for Spain, Italy and others to reform, making the crisis worse in the
long-term.

Maybe we’re looking a gift horse in the mouth
here; the OMT’s commitment to pari passu status looks pretty strong – enshrined
in the legal act setting up the new bond purchases. Above all there seems to be
no complicated trickery here: no use of the bailout funds to indemnify the ECB
balance sheet, no restriction of buying to T-bills.

Critics aren't so sure unlimited bond buying is
the appropriate answer to address Europe's woes. Capital Economics also doesn't think the ECB's announcements
will achieve nearly as much as the Bank is getting credit for.

Unemployment rates demonstrate the divergence
of the region’s economies…Those economic divergences appear to have led
depositors to question the sustainability of the monetary union in the absence
of large-scale fiscal transfers to cushion the weakness in certain countries.

The only question for now is whether Spain and its euro area
partners will go for a full macro-adjustment or a precautionary EFSF/ESM
programme. The next question will be whether Italy can do without the
ECB’s OMT and its conditionality. A happy outcome for Spain would certainly be
good news for Italy as well.

Europe looks likely to go through another ‘lost’ 5 years during which it will
need to rebalance competitiveness internally. Germany’s upcoming recession
appears predominantly driven by weak exports, not only to other EU countries
but also to Asia. However, the low interest rates and generous social programs
prevailing in Germany are likely to absorb most of the blow, so the recession will probably
be shallow, similar to the US recession following
the internet bubble. The recession in the periphery, however, can only get more
drawn out.

The ECB announcement is only anesthesia, in our
opinion,but we know that markets can
run and remain comfortably numb longer than you think.We think earnings disappointments will now
be the next big hurdle for equities. The big question is can the market see
through them?

while Draghi may have achieved what many
commentators see as a firm defense, what he has constructed is the economic
equivalent of a Maginot line. While it could be an effective bulwark against
financial market attacks, it remains vulnerable to political and legal
outflanking.

Why do they
do this? Monetary inflation is the last resort of governments who are over
their heads in debt. Instead of going bankrupt (there is no way we or the
overindebted Eurozone countries can repay the debt) they make the debt cheaper
to pay off by inflating the money supply. It’s an age-old last resort of
incompetent rulers.

The danger is that quasi-solutions will appease
all countries in the short run, not really solve the core problems, and thereby
walk the eurozone further down the plank of doom.This is the outcome I have been predicting,
though it is not necessary in any logical sense.

In conclusion then, the likely amounts involved
in the ECB’s OMT programme are unlikely to be huge. Actually, the smaller they
are, the better, if that means other buyers will be encouraged to build
positions in bonds of the countries involved. However, it usually takes some
time to win confidence back, meaning also the ECB will have to put some money
behind its words.

Despite all the risks, Draghi has potentially
bought the euro zone a considerable period of time. If the LTRO money printing
exercise delivered three months of calm at the beginning of the year, this
unlimited programme could presumably buy a lot more. Governments now have to
use it.

ex-Moody's
vice chairman: As long as the ECB
continues to deliver zero growth, nothing can save the periphery because only
growth can grow government revenue and shrink relative debt. The ideal policy
would be unlimited spending in support of across-the-board yield ceilings, no
austerity, and massive monetary stimulus in order to achieve 5-6% nominal growth.
We are nowhere near that plan, which is why I am not yet converted to the bull
case for Europe.

The ECB will only buy a euro zone country's
sovereign bonds if it commits to "hard reforms", ECB policymaker
Joerg Asmussen said on Friday, seeking to soothe German concerns that the
central bank is embarking on a risky new strategy.

Germany's conservative newspapers on Friday accused Draghi of writing a
"blank cheque" to troubled euro zone states that could put the entire
currency at risk, with top-selling Bild warning his policies could make the
euro "kaputt".

In the age-old battle between creditors and
debtors, weak sovereign borrowers and overstretched banks more often than not
triumph over financially strong creditors. Look no further than the unfolding
eurozone saga for confirmation of this rule. Indeed the latest ECB initiative
to buy distressed eurozone sovereign debt through so-called outright monetary
transactions perfectly illustrates how the illusion of creditor power is
progressively being stripped away.

Cheap ECB cash could prove to be the worst form
of bailout – Open
Europe

As the ECB itself knows, it’s very difficult to
counter these risks. Once the ECB taps are opened, it’s incredibly hard to turn
them off without causing huge market distortions and creating an even graver
crisis than the one that the original intervention was meant to stave off.

Will it be
enough to solve the multiple equilibria problem? Probably. Self-fulfilling
defaults can only occur under this scheme if countries do not follow the reform
programmes. If they do, markets can be sure that they can sell their bond
holdings to the ECB. The only self-fulfilling problem left today is if markets
believe that in a number of countries the reforms themselves will economically
fail, and that the programme has to be abandoned because the credit risk for
the ECB is too high.

In announcing that the ECB will buy up the debt
of countries in distress, Mario Draghi is compensating yet again for the
inaction of European leaders. And he is standing up again as the one who is
changing the rules of the game – exactly what we needed

The debt buyback programme announced by Mario
Draghi is a sign of the European Central Bank's subjection to political power,
laments the German press, which is alarmed by this new shift in European
monetary policy.

The World from Berlin: 'The ECB Is Doing
Governments' Dirty Work' – Spiegel

The ECB's announcement on Thursday that it is
prepared to make unlimited bond purchases in order to lower borrowing costs for
countries in crisis could mark a turning point in the euro crisis. German
commentators, however, criticize the bank for becoming a hostage to politics.

Draghi has taken a bold step this week to
contain the euro crisis. The ECB is now planning unlimited bond purchases in
order to prevent an escalation of the euro's woes. The step marks a fundamental
shift in efforts to save the common currency -- and comes with plenty of risks.

The newest ECB program is another “can kick.”
It may buy some time. It uses monetary policy to address fiscal problems. It
may delude markets, as it did in the short-covering rally. The OMT lacks
headlights that could be turned on to achieve clarity. That is revealed on
close examination of the nuances. Jens Weidmann is correct.

One implication is that Ireland and Portugal can’t look forward with too much certainty to full programme exit even
if they perform exactly as envisaged under their programmes. Another is that
the Eurozone could be running a fairly large after-care facility long after the
peak of the crisis has passed.

The ECB has simply delineated the framework for
crisis intervention. If it it is to activate its own lever, it will no longer
do so alone. The ball is now in the camp of Member States who must request and
approve assistance from and to each other. With 17 veto players and increasing
mistrust and stereotyping, this will surely prove to be an arduous task. The
crisis is certainly not yet over.

The latest
edition of the newsletter comments the ECB: Draghi
has temporarily released the pressure on Europe’s peripherals, but he has had to go
beyond to the very edge of his mandate. What happens next is open to debate but
the Eurocrats are bound to find a way to ensure we have no more than a few days
of relative calm ahead of us.

So this is just another short term breathing
space to allow the PIIGS to refinance their maturing debt at less penal rates,
but does absolutely nothing to solve the longer term problems of creating
growth in economies stifled by ECB “conditionality”; a very sterile landscape
indeed.

The fact that it has changed the wording around
a bit changes nothing from a fundamental standpoint. Indeed, the program the
ECB “announced” is, if anything, the last thing Spain or Italy actually wants.

For now, Draghi can withstand the criticism, as
long as Angela Merkel keeps backing him. But if Rajoy and Monti don’t move
fast, the ECB’s magic will wear off. And if its medicine then fails, it will be
hard to conjure up the political will for an even more powerful concoction.

Becoming a lender of last resort then
ultimately means that the ECB enters into a death pact, a sort of mutually
assured destruction, with the states it rescues, as each can bring the other
down. That may make Bundesbank fears of inflation and debasement correct, even
if it doesn’t make their preferred course of policy wise. For investors it
comes to the same thing; for now be more comfortable with a bit more risk but
be prepared for that to change. Your main insurer is committed and owns a
printing press, but death pacts can and do end badly.Sterilisation (or not) in Brazil – alphaville
/ FT

The idea that the consequences of sterilisation
aren’t always straightforward is well worth making and has obvious resonance in
Europe right now.

It is difficult to imagine that German
Constitutional Court would rule that the ECB's OMT violates the German
constitution…decide whether to grant an injection delaying the formal
establishment of the ESM and the fiscal compact, while they decide the legality
of it at a future date.

This plan still fails to address the primary
issue which is the lack of a rebalancing mechanism.The austerity is the antithesis of
rebalancing.So while the solvency issue
is being addressed by bringing private bidders back to bond markets it is
almost guaranteed to be offset by the fact that these countries still aren’t
going to experience growth that makes their debts sustainable.So this crisis will flare up again at some
point if a permanent fix isn’t implemented.This latest “fix” buys them some time, but is really nothing more than a
kick of the can.

The ESM and the fiscal compact can now be
safely launched, and any immediate obstacle to Mario Draghi’s bond buying plan
at the ECB has disappeared…there may be limits to the willingness of the German
political system to make the cross-border transfers which are inherent in the
ESM/ECB support operations, especially if the troubled economies, following the
example of Greece, fail to stick to the necessary policy conditions

The opposition seen in Germany in response to Mr Draghi’s preparedness to buy sovereign debt implies
that current posturing in Spain will not wear well
with the politics of signing a Memorandum of Understanding in Germany. The more the Spanish administration indulges domestic political
interests and is perceived to be taking undue advantage of external support,
the more explicit conditionality is likely to be demanded.

German
Constitutional Court tightens the noose yet further – The
Telegraph

"An acquisition of government bonds on the
secondary market by the European Central Bank aiming at financing the Members’
budgets independently of the capital markets is prohibited as well, as it would
circumvent the prohibition of monetary financing."

The ECB has offered a seatbelt to a driver with
a bad driving record, which will only work if the driver agrees to a strict
monitoring of his driving. So, will the driver accept the offer in the first
place? Will he change his behaviour afterwards? And if not in the latter case,
is the threat of removing the seatbelt credible?

So yes, the Eurozone could go on for a long
time in a kind of underemployment “equilibrium” as long as the ECB continues to
buy national government securities. The problem is that, while this is
possible, politically the optics of this are such that the ECB cannot go on
forever doing this in such an ad hoc fashion, with the ECB putting out the
fires wherever there is need for increased liquidity, unless these countries
trade balances reverse themselves.

Mario Draghi seems more sorcerer than central
banker. Since the boss of the European Central Bank (ECB) said in late July
that he would do “whatever it takes” to save the euro, Spanish two-year bond
yields have fallen from 7% to 3%.

The ongoing euro-area crisis is seen by many as
vindication of skeptics who said that a monetary union encompassing a disparate
group of countries is doomed to fail because the countries do not constitute
what economists call an optimum currency area. Thus, they argued, a
one-size-fits-all monetary policy that goes with participation in an alliance
such as the European Economic and Monetary Union (EMU) creates strains that
ultimately prove insurmountable.

“We will only buy the debt with the remaining
maturity of three years and part of the conditionality will be that the
maturity structure of the debt may not change so that they (governments) cannot
put all the new debt in the short end of the market,”

First, recall that the ECB was more than
willing in November 2011 to cut Prime Minister Silvio Berlusconi of Italy loose and deny him
securities market program (SMP) support because of insufficient progress on reforms. Its action set a
precedent for even large euro area member state governments. Second, unlike the
case of Lehman Brothers and other systemic banks, large industrial countries do
not go bankrupt overnight. Rather they run the risk of sliding into it over
time.